Gathering storm is picking up speed

THE latest numbers showing resilience in Britain's economy? They're history. MPC minutes showing the balance of argument two weeks ago about interest rates? Hopelessly out of date. So fast and so troubling are the forecasts now about economic storms ahead that the flow of the "latest" data is dismissed as old news and of no relevance to rapidly changing conditions.

Dark portents of the future make today's news instant history. I cannot recall a time since 1991-92 when the business and consumer outlook degenerated so quickly and the forecasts turned so unsparingly bleak.

The bad news has now become relentless. The worrying edge this time is that the liquidity crisis in financial markets, now in its fourth month, shows little sign of easing. Shares in the banking sector have continued to tumble, pointing to constraints on lending both for business and households in the year ahead. Given the sharp deterioration in confidence, it is perhaps just as well that the market appetite for borrowing is falling by the week.

The reality on the ground is seldom, of course, quite as bleak as stockbroker hand-wringing suggests. Many companies have so far been unaffected by the credit crunch, and the business pages of newspapers continue to report company acquisition and expansion, so the more extreme storm reports need to be set against this bigger picture of business (more or less) as normal for now.

But there is no doubt that a slowdown is under way and that the forecasts for the first two quarters of next year suggest a marked and widespread downturn both in the housing market and in business activity.

The revised third-quarter figures of UK Gross Domestic Product released last Friday show growth revised down slightly, from 0.8% quarter-on-quarter and 3.3% year-on-year to 0.7% and 3.2% respectively.

So, are we really on suicide watch over a 0.1% slippage in growth? In fact, activity was still pretty resilient in the face of the developing credit crunch and, to a lesser extent, the flooding back in July.

The main disappointment was a stagnation in business investment. On the output side, service sector expansion was buoyant in the third quarter, with the business services and finance sector expanding by 1.5% quarter-on-quarter despite the developing credit crunch. This offset stagnating manufacturing output. But almost all the data since end September points to faltering growth. Consumer spending seems certain to moderate in the face of the marked overall rise in interest rates since August 2006, tighter lending conditions, muted real disposable income growth, heightened debt levels and a slowing housing market.

However, members of the Monetary Policy Committee are unlikely to read too much into the darker aspects of the GDP report, due to a belief that the ONS tends to underestimate the strength of demand in 'first snap' data and that subsequent revisions see a progressive series of upgrades.

What's the picture across business? The November report of the Bank of England's regional agents released last week included a special survey of the effects that tighter credit conditions were having on companies. The report is important because the research is timely and is broadly based across the UK. The agents spoke to 900 companies, with the majority reporting few direct effects so far. Either they had already secured finance for their business plans or were using internally generated funds to invest. Many said banks were lending actively where the loan transaction risks were straightforward to assess.

However, a minority warned that tighter conditions were affecting their operations - highly leveraged firms seeking to refinance, firms seeking syndicated finance or small to medium-sized firms with reduced access to trade credit. Financial services and property firms seemed especially hard hit.

Overall, however, the effect of the 'crunch' on corporate investment decisions appeared small. Companies seemed to be delaying their spending commitments rather than cancelling them as they waited for the turmoil in credit markets to settle.

"The major risk seems to be that this uncertainty might persist," says Stephen Lewis, economist at Insinger de Beaufort. "The availability and cost of credit to the productive economy is not a serious constraint in activity, but continual rumblings from the financial markets are unsettling business confidence.

"On this reading, the greatest service lending institutions could render to the economy as a whole would be to take their losses, stop dramatising their situation and press on with their traditional business - sadder perhaps, but wiser."

Sadder and wiser may also soon become the prevailing mood among home buyers. The latest figures from the British Bankers' Association show that the number of mortgage approvals for house purchase in October plunged from 54,000 in September (and 70,500 in October 2006) to 44,000. The severity of the slide in mortgage approvals is, says Citigroup economist Michael Saunders, "stunning... Given the close link between housing and consumer spending, the rapid plunge in housing activity is likely to be reflected in a sharp downturn in retail sales growth in coming months."

In a keenly awaited speech last week, MPC 'hawk' and rate cut opponent Rachel Lomax said it was still too early to judge with any confidence what impact the liquidity squeeze would have on households and companies, while it was none too clear either whether low inflation expectations were well anchored.

Nevertheless, she acknowledged that the economy might now be slowing too abruptly. The concern of those who believe interest rates should have been cut earlier this month in view of the deteriorating outlook is that there is unlikely to be sufficient information between now and the next MPC meeting two weeks on Thursday to help her come to a definite view. Similar concerns over inflation appear to be the reason why Richard Lambert, erstwhile MPC member and director-general of the CBI, has not been loudly calling for an immediate rate cut.

However, the rate-cut gang is growing in number and in volume. There is a strengthening view that rates will be cut by 25 basis points next month, reflecting rising downside risks to growth, and that the MPC will continue cutting to take rates down to 5% by this time next year. Indeed, as the slowdown starts to hit the housing market and threaten a general fall in prices, it may be difficult to hear the contrary view.